Mike Meyer

Good day…and welcome to Friday morning. I didn’t realize it at first glance of the calendar, but tomorrow is the first day of fall. I’m glad to see that we still have well over a month before we lose the daylight savings, but I can definitely tell the sun is making its annual retreat. I think Chris will be back in the driver’s seat on Monday, so we have that on the agenda for now but we’re all hoping Chuck is able to make the return that he was hoping for earlier this week. It’s been a long week for yours truly, so I’m looking forward to recharging the batteries over the weekend.

The jubilation over additional stimulus from the Fed had faded away like a nice summer tan yesterday as concerns about global growth have steadily risen to the surface during the course of the week. The markets began the week thinking the Fed fired the silver bullet that would thwart away the demons, but more and more negative data around the world has acted as a strong counter-measure. I think the market mentality equated the various forms of stimulus to higher growth but soon came to the realization that aggressive central bank actions meant that things are getting worse in a hurry. As much as governments around the world try and sugar coat the situation, additional measures wouldn’t be needed if things were heading in the right direction.

I saw an interview with Minneapolis Fed president Kocherlakota yesterday who was advocating the current stimulus measures but also trying to set targets as to how far things should progress. He basically said the Fed should keep interest rates near zero until unemployment crosses the threshold below 5.5% and went on to say that could take at least four years. For someone who just six months ago was talking about initiating an exit strategy at the end of the year, this stance is a complete 180-degree turn and one of the more dovish statements that we’ve seen. I think this is a good example of how quickly the conditions of not only the domestic economy but also the global economy have changed in a relatively short period of time.

If we take a look at the economic data from yesterday, we’ll see the basis of these global slowdown concerns. We first had more disappointment in Europe as we saw euro zone services and manufacturing output in September fall to over a three-year low. The Markit PMI index fell to 45.9 from the already dismal August figure of 46.3, so many economists see things moving in the direction of negative third quarter growth which would put the region into recession. This report was expected to show slight growth but disappointed instead.

We also saw euro zone consumer confidence in September fall to its lowest level since May 2009, even with action from the ECB at the beginning of the month. Obviously austerity measures have a significant impact on all facets of the economy but it’s a necessity in order to rise from the ashes at some point. There are only so many things that can be swept under the rug and spending without concern about future consequences is a dangerous game, so I truly hope the Fed and US government come to this realization before it’s too late. Anyway, investors are now looking at the ECB and expecting a rate reduction in October to 0.5%.

I also saw where The Financial Times said steps were under way for an official rescue of Spain where instead of strict austerity measures, its expected European officials will work on economic reforms instead of tax hikes and severe spending cuts. Since Spain is one of the larger euro zone economies, they want to tread somewhat lighter as to not cause total economic disruption. It’s going to be a fine line to walk, but the article is calling for this to be announced on September 27. If slowing European manufacturing wasn’t enough, investors also took it on the chin as a Chinese manufacturing gauge also moved in the wrong direction.

The outcome from US data yesterday didn’t help to calm any fears. Starting with initial jobless claims, we didn’t see the type of improvement that was originally expected. Those filing for unemployment came in at 382K, which was higher than the estimate of 375K, but the previous week’s data was revised upward by 3K to 385K. I think that many companies and businesses are on hold at least until the fiscal cliff has been addressed and since nothing on the horizon points toward some type of resolution, we may see the claims number hovering in this range.

To drive the point home, the states that were impacted by Isaac didn’t see any resulting rise in claims and Illinois didn’t indicate the teachers strike added to any filings either, so it looks more and more likely we could see a hiring freeze until taxes and spending cuts get ironed out. I’m not taking into account part time seasonal help, but instead, full time jobs when I refer to the reluctance of business hiring since the cost of benefits is a major expense. I couldn’t find much in the way of details, but the number of continuing claims decreased so I don’t exactly know if those falling off the books were the main contributors. Since the national jobs numbers aren’t exactly stellar, I would have to assume that many of those have exhausted their benefits.

The same Markit manufacturing report that we saw in China, which has stirred up talk about more stimulus in Asia, showed that things stalled out in the US during September. The report held at 51.5, which is on the right side of the fence, but the report that really matters won’t be out for another couple of weeks. The other manufacturing report, the Philly Fed index, was in negative territory for a fifth straight month in September. With that said, it did show improvement as it came in at -1.9 compared to the August reading of -7.1, but it’s the same story of lower sales and concerns over the employment picture.

Here I go with my dissection again, but the gauge of new orders showed some improvement while the measure of shipments fell to the lowest level since April 2009. The results of this report and the New York report are used as a barometer for the National ISM number, but with nearly half of those surveyed calling for lower production in the third quarter as compared to the second, it’s not looking too bright. In a related report, we saw leading economic indicators come in as expected at -0.1%, which was primarily due to a fall in manufacturing new orders.

In fact, only four of the components had increased, while six of the ten lost ground in the month of August. The economy as a whole hasn’t displayed any promise so far this month, so I don’t expect September’s report to show much in the way of change since consumer weakness and the labor market remain under pressure. The last report from yesterday was another consumer comfort measure that revealed more confidence in the economic outlook. As with most confidence reports, the direction of the stock market has significant pull, so read what you want, but I don’t see where the need for QE3 earlier in the month translates into confidence running at a four-month high. Again, if the current environment warrants additional government action, I wouldn’t exactly call that a positive scenario.

Looking ahead to next week, we have decent volume in the way of economic reports, but there aren’t too many game changers. We’ll see another round of housing data as new home sales are out on Wednesday and pending home sales on the following day. It looks like Thursday will be a big day as we get the final revision to second quarter GDP, which is expected to remain at 1.7%, along with personal consumption and durable goods orders. Then on Friday, we see the results of August personal income and spending. If we look even further out, I think investors are starting to hold their breath for the September jobs report two Fridays from today.

Moving on to the currency market, it wasn’t what you would call a very currency-friendly day with all of the global slowdown talk. The euro (EUR) and all of the euro equivalents took the brunt of the action as they finished out the day with just over 0.5% losses. I already went over the reasons for the drop, but it wasn’t a total wash out. The Brazilian real (BRL), New Zealand dollar (NZD), and Japanese yen (JPY) were able to find their way in the black yesterday while all of the other non-European currencies finished the day with fractional losses. When I was writing yesterday morning, it wasn’t looking good but things at least stabilized as the day wore on. In fact, the trend this week, while muted at best, has been a recovery during US trading.

As I looked at the currency charts around 9AM following the US data, a majority of the currencies had anywhere between 0.75% and 1% losses but cooler heads prevailed. The New Zealand dollar jockeyed itself into first place with just over a 0.25% gain as second quarter growth took the markets by surprise. GDP rose at the fastest pace in two years by climbing 2.6%. Its close relative, the Australian dollar (AUD), got caught up in the Chinese story so it wasn’t able to join in on the fun. Not only that, uncertainty surrounding what the RBA will do with interest rates has put a governor on its move as of late.

I know these next two currencies were lumped in the euro’s move, but we heard from government officials in both cases. Norway’s central bank governor alluded to the fact that direct intervention in the markets won’t take place unless we see things move significantly out of line according to fundamentals. There was talk about a year ago of similar action employed by the Swiss taking place in Norway, but its depreciation to the euro had eased those fears. The next question becomes what course of action Norges will take with rates in October since a rate cut isn’t really conducive, given their housing market. He went on to say that if the only bit of info to consider was inflation, interest rates would probably be at zero, but they have other things to contend with that doesn’t make that scenario possible.

Speaking of the Swiss, a SNB member said that despite a certain easing of the exchange rate situation over the past week, challenges of a strong franc (CHF) haven’t been diffused. He went on to say the expected depreciation of the franc hasn’t materialized yet, so based on that, it’s clear the SNB will maintain its minimum exchange rate with the euro at 1.20. In other words, they are going to stay the course and have no intentions of letting up any time soon. Other than that, I pretty much covered everything. I did forget to mention that a UK manufacturing index rose more than forecast as factory orders increased, but it still remained in negative territory.

As I came in this morning, the tide has definitely turned as the markets are now embracing the rescue efforts from the various central banks, but the likelihood of a Spanish bailout next week is really picking up steam. A successful bond auction in Spain definitely helps the situation. So, we have the beginnings of a risk on trading day and with nothing in the data department today, I would expect to end the week on a positive note but most currencies will still conclude the week in the red. All of this back and forth market movement may get some sea sick, but that’s what we have to deal with and I don’t think the markets know what they want anymore.

Then there was this… I saw this from our friends over at The 5 Minute Forecast. According to American Banker, the percentage of corporate cash in bank accounts in May stood at 51%. Comparing that to 42% last year, and 23% in 2006, we think something might be brewing here…

“According to the FDIC,” Doug continues, “noninterest-bearing deposits for the top five banks have swelled by over 100% since 2008, when the FDIC put TAG in place. You can get an idea of the shift by looking at the demand deposits at commercial banks generally.”

To recap… The warm and fuzzy feelings about QE3 have given way as the week has progressed since we not only saw other central banks inject stimulus, but economic data has been disappointing for the most part. European and Chinese manufacturing showed weakness and euro zone consumer confidence fell to its lowest level since May 2009. The results of US economic data didn’t help as initial jobless claims were more than expected and leading indicators fell negative. As a result, the euro and euro equivalents had a rough day but the New Zealand dollar squeezed out a gain since second quarter GDP rose more than expected.

Mike Meyer
for The Daily Reckoning

Mike Meyer

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